Oil's Slump Could Send Riskiest Junk Bonds Further Into Distress

(Bloomberg) -- The pain may be just beginning for the junkiest of junk bonds now that oil is selling off again.

Distressed energy companies like Weatherford International Plc and Sanchez Energy Corp. led a sell-off in the lowest-rated U.S. company debt this week, driving a prominent benchmark to the highest yield in more than two years. The Bloomberg Barclays Caa US High Yield Total Return Unhedged USD index -- in which energy issuers make up 17 percent -- has started behaving like a stressed benchmark again, with the yield crossing 10 percent for the first time since the start of 2017.

Oil's Slump Could Send Riskiest Junk Bonds Further Into Distress

“You have a perfect storm with falling equities and falling oil prices,” James Spicer, a high-yield analyst at TD Securities, said by phone. “I think there is further downside and it’s going to be oil-price driven.”

West Texas Intermediate crude tumbled to its lowest level since April after Saudi Arabia said it would ramp up oil production. Output from the Organization of the Petroleum Exporting Countries has climbed to the highest level since November 2016, just before the 15-member bloc agreed to cut production to end an oversupply that caused the last energy downturn.

Oil's Slump Could Send Riskiest Junk Bonds Further Into Distress

For troubled energy companies that managed to squeak through the previous price collapse, a move back toward oil in the $50 range could spell trouble, Spicer said. WTI crude is trading at around $63 Friday, down from a 52-week high of over $76 reached on Oct. 3. And given the energy sector’s prominence in the U.S. high-yield market, that could further chip away at the out-performance the sector enjoyed in the first part of the year.

Oil's Slump Could Send Riskiest Junk Bonds Further Into Distress

Particularly vulnerable are oil and gas service companies like Weatherford, Hi-Crush Energy Partners LP, McDermott International Inc. and Hornbeck Offshore Services Inc., all of which have bonds trading at or near distressed levels. Restructuring firm AlixPartners recently warned that 90 percent of offshore service vessel operators are at risk of bankruptcy within a year. Dixie Electric LLC, a power provider for oil drillers, filed for protection from creditors Friday.

To make matters even more challenging, the confluence of rising interest rates and falling oil prices will make it increasingly difficult for the junkiest issuers to refinance their debt. GEP Haynesville LLC, a natural gas producer backed by Blackstone’s GSO, shelved a $600 million junk bond sale this week when investors demanding a higher yield.

©2018 Bloomberg L.P.